1. Field of the Invention
The subject disclosure relates to methods and systems for providing corporate owned life insurance products via a computing network, and more particularly to improved methods and systems for optimizing the return on the corporate owned life insurance products.
2. Background of the Related Art
In the United States, generally accepted accounting principles (GAAP) are commonly followed by corporations in managing accounting related activity. Various organizations promulgate additional guidelines to help define terms so that corporate financial statements and ledgers may be effectively evaluated and analyzed. One such organization is the Financial Accounting Standards Board (FASB).
Over recent years, GAAP have moved toward “fair value” accounting and international standards that more properly recognize the true fair market value of financial instruments. Fair value measurements are instrumental in detennining the value of corporate owned life insurance (COLI) products. In the past, there have been many different approaches to structuring COLT products. COLI is life insurance on employees' lives that is owned by the employer corporation. One type of COLI product is a cash value program (COLI-CV). A COLI-CV product requires a high initial investment and premium with the primary objective of increasing policy value while deferring taxes on the accumulated growth. Currently, Congress limits and provides guidelines for COLI practice as well.
The current accounting for life insurance applied by most business entities is FTB 85-4. Issued in 1985, FTB 85-4 states that the asset value to be carried for life insurance is the cash surrender value of the policy. FTB 85-4 presupposes that the only market available to a policy owner is the insurance carrier from whom the policy was acquired. Since the issuance of FTB 85-4, financial markets and accounting have progressed. Markets have evolved that will purchase all or a portion of an insurance contract for an amount greater than the amount of cash surrender value and accounting rules such as the recent FTB 85-4-1 reflect these developments.
The “fair value” standard often results in a value for an asset that is different from the market value. The application of FASB 159 to COLI results in an asset value that more properly reflects the fair value of the asset by taking into account all aspects of the nature of the contract to include premium, cash value and the future receipt of policy proceeds. This is consistent with how closely analogous assets in the capital markets are valued. A typical UL contract, for example, is essentially a zero coupon swap which matures when the insured dies.
FAS 159 provides for the initial recognition of COLI policies at adoption and subsequent recognition of changes in value of a COLI policy based on a measure of fair market value. Unless the purchaser elects that the policy(s) will be accounted under FAS 159, then FTB 85-4 will apply.
The subject technology highlights the differences between traditional accounting and fair value under FASB 157 and 159 as can be seen in FIG. 2A. Traditionally, COLI does not lend itself to the fair value option. However, FASB 159 provides for the initial recognition of the COLI policies at adoption and subsequent recognition of changes in value of a COLI policy based on a measure of fair market value.
FASB has set out a number of statements including statements number 157 and 159. Statements 157 and 159 relate to fair value measurements and attempt to clarify and simplify traditionally complex accounting practice related to the same. These statements are particularly aimed at clarifying fair value measurements of investments, which ultimately determine tax consequences and similar financial outcomes on corporate ledgers.
FASB 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Embedded in this definition are certain presumptions that need to be understood when calculating fair value. The presumptions are: the price is based on an orderly transaction between market participants at the measurement date from the point of view of the transferor; fair value is asset or liability specific; there is an orderly transaction in which the sale has occurred after a reasonable period of marketing activities has occurred; the transfer takes place in the principal or most advantageous market for the asset or liability; the buyers and sellers in the principal market are called market participants; and fair value for assets is based on their highest and best use, and fair value for liabilities assume the risk of nonperformance will be the same before and after the transfer.
In the context of the presumptions above, FASB 157 allows three valuation techniques that can be used individually or in combination. The market approach uses market prices and other information from market transactions involving identical or comparable assets or liabilities. The income approach is based on the present value of a future stream of cash flows or income. Lastly, the cost approach is essentially replacement cost based on the cost for a buyer to acquire or construct assets of comparable utility.
The use of any one of these approaches requires the use of “inputs” which are assumptions used in the calculation of fair value. These inputs could include risk factors, interest rates and timing of cash flows to name a few. The inputs are categorized into “level 1”, “level 2” or “level 3” inputs depending on the reliability and verifiability of the input. Valuations using “level 1” inputs are better than “level 2” inputs, which are better than “level 3” inputs. FASB 157 also expands the disclosure requirements to include information on the “inputs” used in the three valuation techniques discussed above. The disclosure requirements distinguish between fair values measured on a recurring basis and those measured on a non-recurring basis.
FASB 159 expand the use of fair value measurements for financial instruments that are not otherwise required to be stated at fair value. FASB 159 does not change any previous standards that require the use of fair value. The use of fair value is optional and applies to not-for-profits as well as for-profit entities. An entity's decision to apply fair value under this statement is made at certain defined election dates on an item-by-item basis. Therefore, an entity could have several identical assets and liabilities of which some are measured at fair value and the remaining at some other value. However, once the choice is made to apply fair value under FASB 159, it is irrevocable. Lastly, the gains and losses from changes in fair value resulting from applying FASB 159 are recognized in income.
Under FASB 159, eligible items for fair value treatment include all recognized financial assets or liabilities except investments in consolidated subsidiaries, interests in consolidated variable interest entities, assets or obligations relating to employee benefits, financial assets or liabilities relating to leases, demand deposit liabilities and financial instruments where all or a part are classified as a component of equity by the issuer. The election to treat the assets or liabilities can occur on certain dates which include the date on which an eligible item is first recognized, the date the entity first enters a firm commitment, the date financial assets which had always been measured at fair value no longer qualify for that treatment, the date the percentage ownership changes in an investment and the date on which an event requires an asset or liability to be measured at fair value once but not at each balance sheet date.
FASB 159 also allows securities under FASB 115 that are classified as available-for-sale and held-to-maturity to be included in the fair value election. Under FASB 115, the unrealized gains and losses on available-for-sale are currently included in other comprehensive income. If an entity elects to treat available-for-sale securities under FASB 159, then the unrealized gains and losses would be included in income and the securities would be subsequently classified as trading.
While the disclosure requirements of FASB 159 are quite extensive, the disclosure requirements do not replace the disclosure requirements of other pronouncements. The disclosure requirements are intended to facilitate comparisons between entities, as well as between assets and liabilities of a single entity that are measured differently. The disclosure requirements also serve to explain why management elected or partially elected fair value measurements and how the election impacts earnings.